Exchange of Information Preventing Tax Fraud

Exchange of Information Preventing Tax Fraud

Federal Supreme Court – Case no. 2A.608/2005, 10 August 2006

Summary

Facts

A.Y. and B.Y. were US taxpayers and owned 13 commercial properties. In each tax year, the deducted the amount of $1.7 million from their taxable income as mortgage interest. The loans were in fact provided by the establishment X. despite A.Y. and B.Y. initially stating that the loans were provided by G., a loan servicing company. A.Y. and B.Y. stated orally that they maintained no further business relationships with X. but were not willing to confirm this in writing. X. had also granted mortgage loans to three trusts which each held real estate for their sons. Due to the mortgage interest and real property taxes, all trusts recorded financial losses. Consequently, the IRS suspected that X. was being controlled by A.Y. and B.Y. or another closely related party. The IRS requested that the Swiss Federal Tax Administration (FTA) collect and provide relevant information related to the ownership, the founders, the directors of X. and persons authorized to represent X. In case X. proved to not be a “valid business entity but rather a customer with a bank account” the IRS requested bank records, from, amongst others, the bank H. The FTA demanded that H. produce the requested documents. The bank I., which in the meantime had taken over H., complied and provided the FTA with, inter alia, an excerpt of the trade register. The excerpt showed that X. had its seat in Vaduz (Liechtenstein) and that A.Y. was the beneficial owner of X.’ account with the bank.

The FTA issued a decision granting the IRS’ request for administrative assistance. X. appealed the decision to the Federal Supreme Court, moving for a dismissal of the FTA’s decision, to reject the IRS’ request and to either destroy the obtained documents or return them to X. or I. respectively.

Issues

In this case, the Court was asked whether the IRS presented sufficiently suspicious facts in order to request administrative assistance from the FTA.

The Court was furthermore asked to decide whether the taxpayer’s actions amounted to “tax fraud and the like” as is required by Art. 26 (1) of the Swiss-US tax treaty to warrant the exchange of information. The court also ruled on the issue of whether the disclosure of information to the IRS violated Swiss banking secrecy laws.

Decision

In a first, more general statement, the Court held that the personal scope outlined in Art. 1 of the treaty does not limit the application of Art. 26 (1). This means that information to be exchanged following a request for administrative assistance may relate to persons who are not residents of the contracting states.

The Court defined, that fraudulent conduct does not require the use of forged or falsified documents. Rather, fraudulent behavior may be assumed when the taxpayer uses deceptive measures to mislead tax authorities. Furthermore, at the time of requesting administrative assistance, the IRS was not required to prove actual fraudulent behavior but rather show that the suspicion was based on a reasonable presumption of illicit conduct that warranted further inquiry.

In this case, the Court deemed these conditions fulfilled. The information sought after by the IRS was sufficiently precise and narrow in scope. The IRS’ request was limited to the taxpayers’ names and addresses, a specific type of tax, the tax years, and an enumerated list of documents. Additionally, the fact that the taxpayers were not capable of proving that they did not control X., and a large amount of interest deducted from their income paid to a non-US entity were indicia that their conduct amounted to “tax fraud or the like”.The Court also held that when considering the merits of a request for administrative assistance the FTA was not obliged to ensure whether US law was being applied correctly.

Finally, the Court confirmed earlier rulings which held that Swiss banking secrecy laws do not stand in the way of exchanging information in cases of tax fraud.

In conclusion, the appeal was denied and the legality of granting administrative assistance affirmed.

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